Financial Woes of Al Gosaibi and Saad Families are Signs of Wider Problem

Key findings:

A large proportion of the GCC economies are run by large family businesses.

The multiple natures of the businesses, lack of transparency and possible splits due to inheritance issues increases the risk of collapse of some of those businesses. There is also an increasing risk of financial irregularities as the businesses expand rapidly.

As many of those businesses and their founders are of similar age, the risk of those difficulties happening around similar times is increased. This is also increased by the global financial crisis leading to simultaneous or near-simultaneous collapses;

Whilst the GCC economies may be able to absorb the fallout from the collapse of a small number of such businesses, they will be unable to absorb multiple collapses;

Due to the closeness of the large families to the ruling families of the GCC (most of whom are also large business families), the line between private and public business is blurred.

It is unlikely that those businesses will disclose the majority of their dealings, unless a political will develops. This is unlikely to come soon, at times when the very lack of transparency is allowing some of those businesses to survive.

The global financial crisis that has severely hit parts of the GCC has exposed the vulnerability of the Gulf economies to risks posed by the large exposure of those economies to family businesses.

Whilst the risks posed to the GCC economies by large GCC family business are steadily and gradually increasing, the events surrounding the Saad and Al Gosaibi families have brought to the fore the extent of potential fallout arising from the collapse of large GCC family businesses.

Background to family business in the GCC

Local families in the GCC control a significant element of their countries’ wealth. The reasons for this vary from country to country within the GCC. However, the common denominator is that a handful of large families control many segments of those economies. In many situations, those families are also prominent in leading government positions and are close to the ruling families.

At the time of independence and rapidly increasing oil revenues in the latter part of the twentieth century, the local GCC governments sought to secure the interests of the local populations by formulating laws that effectively gave the local families a share of all new businesses. The most wide-spread example includes the laws that stipulate that locals have to own at least 51% of businesses in various fields. In some instances, securing the support of dominant clans was vital to ensuring the survival of the newly-created states.

As a result of those factors, both the economic and political scenes in most GCC states are dominated by a handful of families, with a vague distinction between the two.

Whilst there are no reliable estimates, it is estimated that large family businesses control between 30 % and 60 % of their countries’ GDP. Exact estimates cannot be obtained, as there is significant overlap between large family businesses, private business and also in public-sector business.

Sources of risk

As those families acquired their wealth by predominantly exploiting a rapidly changing economic reality (brought about by oil revenue), and hugely favorable conditions, the nature of the businesses they conducted assumed secondary importance. This resulted in those businesses expanding into other business sectors and currently over 80 % of large GCC family businesses are estimated to have significant amount of their operations being conducted in four or more independent sectors. This also meant that the day-to day operations of the businesses were being run by hired professionals, rather than the owners, who in most situations are not professionally able to work in those businesses. This makes large GCC family businesses different to more traditional family businesses in other parts of the world, where the business founders would have been thoroughly engaged in developing the core business. This has opened the potential for almost uncontrolled business speculation.

Both short and medium-term risks arise from exposure to family business.

Availability of credit in the past several years has prompted uncontrolled lending by local GCC banks, which in the overwhelming majority has been unsecured. The reputation of those families was often viewed as sufficient security to lend freely, as their founding was facilitated by the very creation of their own states;

A large amount of this has been invested in various sectors, including real-estate, banks and equities, both in the region and overseas;

Lack of transparency on how the businesses are run. This, coupled with the diversity of the sectors in which the businesses operate, risks profitable sectors (which may be run independently), having to compensate for losses generated in losing ones.

Most of those businesses are either first or second generation businesses. As the founders of those families age, the business empires they have built will most likely be divided according to Islamic law. This means that many of those businesses will be divided equally between the male sons, with female children taking half. Although some families may agree to maintain the unity of the business ventures, there is a significant risk that in some situations this may not happen and may even lead to inheritance disputes and splits the family businesses.

Those risks have existed for a considerable period of time but have expanded to a degree that they pose a serious risk to the economies in which they operates. The global financial crisis was the first major crisis to hit those businesses, and states, since their creation. Having survived for several decades through a combination of favorable conditions, abundant liquidity and rapidly expanding economies, the current financial crisis will undoubtedly result in major losses and an increase of bank loan defaults.

The difficulties faced by the Al Gosaibi and Saad Groups may have come about for various reasons, including allegations of financial irregularities. However, the fall-out from this is being felt by banks and institutions in various GCC countries. The Saudi group had significant business in most GCC states. Although Emirates NBD Bank, for example, has said the percentage of non-performing loans due to increase from 1.19% to 2.5% in 2010, primarily due to exposure to the Gosaibi-Saad crisis, we estimate that the actual percentage of non-performing loans to be between 5 and 7 %. This takes into account the interconnectedness of the businesses, the timing of the crisis, and extent of the losses which until the writing of this report is increasing.

Whilst the fallout from the Al Gosaibi and Saad crisis can be established, the impact of failing large family businesses on the economies of the GCC will be several times higher and may spiral out of control.

In order to avoid fallout, greater transparency will be needed as well as more controlled lending. However, most of those families will be reluctant to disclose their dealings and will unlikely be forced to do so. This is because of the closeness between those families and the government businesses.